UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2006

or

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the transition period from ___________________ to ___________________

Commission File Number: 001-31458

Newcastle Investment Corp.
(Exact name of registrant as specified in its charter)

Maryland
81-0559116
(State or other jurisdiction of incorporation
(I.R.S. Employer Identification No.)
or organization)
  

1345 Avenue of the Americas, New York, NY
10105
(Address of principal executive offices)
(Zip Code)

(212) 798-6100
(Registrant's telephone number, including area code)

_____________________________________________________________
(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x  No o     

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
 
Large accelerated filer x    Accelerated filer o   Non-accelerated filer o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes o  No x

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the last practicable date.

Common stock, $0.01 par value per share: 45,699,817 shares outstanding as of November 7, 2006.

NEWCASTLE INVESTMENT CORP.
FORM 10-Q

INDEX
 
 
PAGE
   
PART I. FINANCIAL INFORMATION
  
   
Item 1. Financial Statements
  
   
Consolidated Balance Sheets as of September 30, 2006 (unaudited) and December 31, 2005
1
   
Consolidated Statements of Income (unaudited) for the three and nine months ended September 30, 2006 and 2005
2
   
Consolidated Statements of Stockholders' Equity (unaudited) for the nine months ended September 30, 2006 and 2005
3
   
Consolidated Statements of Cash Flows (unaudited) for the nine months ended September 30, 2006 and 2005
4
 
  
Notes to Consolidated Financial Statements (unaudited)
6
   
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
15
   
Item 3. Quantitative and Qualitative Disclosures About Market Risk
32
   
Item 4. Controls and Procedures
37
   
PART II. OTHER INFORMATION
  
   
Item 1. Legal Proceedings
38
   
Item 1A. Risk Factors
38
 
  
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
39
   
Item 3. Defaults upon Senior Securities
39
   
Item 4. Submission of Matters to a Vote of Security Holders
39
   
Item 5. Other Information
39
   
Item 6. Exhibits
40
   
SIGNATURES
41

 
PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS
(dollars in thousands, except share data)

   
September 30, 2006(Unaudited)
  
December 31, 2005
  
   
 
      
Assets
          
Real estate securities, available for sale
  
$
5,369,641
  
$
4,554,519
  
Real estate related loans, net
    
1,238,418
   
615,551
 
Residential mortgage loans, net
    
863,788
   
600,682
 
Subprime mortgage loans subject to future repurchase - Note 5
    
287,546
   
-
 
Investments in unconsolidated subsidiaries
    
28,549
   
29,953
 
Operating real estate, net
    
30,271
   
16,673
 
Cash and cash equivalents
    
16,317
   
21,275
 
Restricted cash
    
183,334
   
268,910
 
Derivative assets
    
64,218
   
63,834
 
Receivables and other assets
    
43,999
   
38,302
 
   
$
8,126,081
  
$
6,209,699
  
Liabilities and Stockholders' Equity
              
 
Liabilities
              
CBO bonds payable
  
$
3,505,906
  
$
3,530,384
  
Other bonds payable
    
704,785
   
353,330
 
Notes payable
    
153,957
   
260,441
 
Repurchase agreements
    
2,197,780
   
1,048,203
 
Financing of subprime mortgage loans subject to future repurchase - Note 5
    
287,546
   
-
 
Credit facility
    
125,000
   
20,000
 
Junior subordinated notes payable (security for trust preferred)
    
100,100
   
-
 
Derivative liabilities
    
26,576
   
18,392
 
Dividends payable
    
30,152
   
29,052
 
Due to affiliates
    
9,938
   
8,783
 
Accrued expenses and other liabilities
    
27,175
   
23,111
 
     
7,168,915
   
5,291,696
 
Stockholders' Equity
              
Preferred stock, $0.01 par value, 100,000,000 shares authorized, 2,500,000
             
shares of 9.75% Series B Cumulative Redeemable Preferred Stock and 1,600,000
             
shares of 8.05% Series C Cumulative Redeemable Preferred Stock, liquidation
             
preference $25.00 per share, issued and outstanding
    
102,500
   
102,500
 
Common stock, $0.01 par value, 500,000,000 shares authorized, 43,999,817 and
             
43,913,409 shares issued and outstanding at September 30, 2006 and
              
December 31, 2005, respectively
    
440
   
439
 
Additional paid-in capital
    
784,234
   
782,735
 
Dividends in excess of earnings
    
(10,923
)
  
(13,235
)
Accumulated other comprehensive income
    
80,915
   
45,564
 
     
957,166
   
918,003
 
   
$
8,126,081
  
$
6,209,699
  
 
1
 
NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
(dollars in thousands, except share data)

   
Three Months Ended
September 30,
  
Nine Months Ended
September 30,
  
   
2006
  
2005
  
2006
  
2005
  
Revenues
                  
Interest income
  
$
140,330
  
$
88,021
  
$
378,446
  
$
254,035
  
Rental and escalation income
    
834
   
1,871
   
3,616
   
4,850
 
Gain on sale of investments, net
    
2,642
   
6,750
   
10,064
   
12,099
 
Other income, net
    
288
   
3,208
   
4,545
   
4,594
 
     
144,094
   
99,850
   
396,671
   
275,578
 
Expenses
                          
Interest expense
    
100,239
   
58,681
   
265,113
   
163,238
 
Property operating expense
    
1,041
   
594
   
2,808
   
1,827
 
Loan and security servicing expense
    
1,553
   
1,483
   
4,961
   
4,646
 
Provision for credit losses
    
2,682
   
4,091
   
5,868
   
5,990
 
Provision for losses, loans held for sale - Note 5
    
-
   
-
   
4,127
   
-
 
General and administrative expense
    
1,187
   
1,034
   
3,979
   
3,251
 
Management fee to affiliate
    
3,475
   
3,316
   
10,420
   
9,895
 
Incentive compensation to affiliate
    
3,094
   
2,416
   
8,780
   
5,271
 
Depreciation and amortization
    
290
   
182
   
767
   
453
 
     
113,561
   
71,797
   
306,823
   
194,571
 
Income before equity in earnings of unconsolidated subsidiaries
    
30,533
   
28,053
   
89,848
   
81,007
 
Equity in earnings of unconsolidated subsidiaries
    
1,506
   
1,104
   
3,916
   
4,628
 
Income taxes on related taxable subsidiaries
    
-
   
(43
)
  
-
   
(321
)
Income from continuing operations
    
32,039
   
29,114
   
93,764
   
85,314
 
Income from discontinued operations
    
(12
)
  
86
   
212
   
2,051
 
Net Income
    
32,027
   
29,200
   
93,976
   
87,365
 
Preferred dividends
    
(2,328
)
  
(1,523
)
  
(6,985
)
  
(4,570
)
Income Available For Common Stockholders
  
$
29,699
  
$
27,677
  
$
86,991
  
$
82,795
  
Net Income Per Share of Common Stock
                          
Basic
  
$
0.68
  
$
0.63
  
$
1.98
  
$
1.90
  
Diluted
  
$
0.67
  
$
0.63
  
$
1.97
  
$
1.88
  
Income from continuing operations per share of common stock, after
                         
preferred dividends
                          
Basic
  
$
0.68
  
$
0.63
  
$
1.97
  
$
1.85
  
Diluted
  
$
0.67
  
$
0.63
  
$
1.97
  
$
1.84
  
Income from discontinued operations per share of common stock
                          
Basic
  
$
(0.00
)
$
0.00
  
$
0.01
  
$
0.05
  
Diluted
  
$
(0.00
)
$
0.00
  
$
0.00
  
$
0.04
  
Weighted Average Number of Shares of
                         
Common Stock Outstanding
                          
Basic
    
43,999,817
   
43,789,819
   
43,978,625
   
43,595,411
 
Diluted
    
44,136,956
   
44,121,263
   
44,091,003
   
43,961,044
 
Dividends Declared per Share of Common Stock
  
$
0.650
  
$
0.625
  
$
1.925
  
$
1.875
  
 
2
 
NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (Unaudited)
FOR THE NINE MONHTS ENDED SEPTEMBER 30, 2006 AND 2005
(dollars in thousands)

 
Preferred Stock
 
Common Stock
 
Additional Paid-in
 
Dividends in Excess of
 
Accum. Other Comp.
 
Total Stock-holders'
  
 
Shares
 
Amount
 
Shares
 
Amount
 
Capital
  
 Earnings
  
Income
  
Equity
  
Stockholders' equity - December 31, 2005
  
4,100,000
 
$
102,500
    
43,913,409
 
$
439
  
$
782,735
  
$
(13,235
)
$
45,564
  
$
918,003
  
Dividends declared
 
-
   
-
   
-
   
-
   
-
   
(91,664
)
  
-
   
(91,664
)
Exercise of common stock options
  
-
   
-
   
84,000
   
1
   
1,439
   
-
   
-
   
1,440
 
Issuance of common stock to directors
  
-
   
-
   
2,408
   
-
   
60
   
-
   
-
   
60
 
Comprehensive income:
                                                
Net income
  
-
   
-
   
-
   
-
   
-
   
93,976
   
-
   
93,976
 
Net unrealized (loss) on securities
 
-
   
-
   
-
   
-
   
-
   
-
   
31,775
   
31,775
 
Reclassification of net realized (gain) on securities into earnings
 
-
   
-
   
-
   
-
   
-
   
-
   
(637
)
  
(637
)
Foreign currency translation
  
-
   
-
   
-
   
-
   
-
   
-
   
763
   
763
 
Net unrealized gain on derivatives designated as cash flow hedges
  
-
   
-
   
-
   
-
   
-
   
-
   
6,801
   
6,801
 
Reclassification of net realized (gain) on derivatives designated as cash flow hedges into earnings
  
-
   
-
   
-
   
-
   
-
   
-
   
(3,351
)
  
(3,351
)
Total comprehensive income
                                            
129,327
 
Stockholders' equity - September 30, 2006
  
4,100,000
 
$
102,500
    
43,999,817
 
$
440
  
$
784,234
  
$
(10,923
)
$
80,915
  
$
957,166
  
Stockholders' equity - December 31, 2004
  
2,500,000
 
$
62,500
    
39,859,481
 
$
399
  
$
676,015
  
$
(13,969
)
$
71,770
  
$
796,715
  
Dividends declared
 
-
   
-
   
-
   
-
   
-
   
(86,661
)
  
-
   
(86,661
)
Issuance of common stock
  
-
   
-
   
3,300,000
   
33
   
96,518
   
-
   
-
   
96,551
 
Exercise of common stock options
  
-
   
-
   
628,330
   
6
   
9,491
   
-
   
-
   
9,497
 
Issuance of common stock to directors
  
-
   
-
   
2,008
   
-
   
67
   
-
   
-
   
67
 
Comprehensive income:
                                                
Net income
  
-
   
-
   
-
   
-
   
-
   
87,365
   
-
   
87,365
 
Net unrealized (loss) on securities
 
-
   
-
   
-
   
-
   
-
   
-
   
(41,202
)
  
(41,202
)
Reclassification of net realized (gain) on securities into earnings
 
-
   
-
   
-
   
-
   
-
   
-
   
(7,157
)
  
(7,157
)
Foreign currency translation
  
-
   
-
   
-
   
-
   
-
   
-
   
(1,103
)
  
(1,103
)
Reclassification of net realized foreign currency translation into earnings
  
-
   
-
   
-
   
-
   
-
   
-
   
(626
)
  
(626
)
Net unrealized gain on derivatives designated as cash flow hedges
  
-
   
-
   
-
   
-
   
-
   
-
   
38,701
   
38,701
 
Reclassification of net realized loss on derivatives designated as cash flow hedges into earnings
  
-
   
-
   
-
   
-
   
-
   
-
   
1,657
   
1,657
 
Total comprehensive income
                                            
77,635
 
Stockholders' equity - September 30, 2005
  
2,500,000
 
$
62,500
    
43,789,819
 
$
438
  
$
782,091
  
$
(13,265
)
$
62,040
  
$
893,804
  
 
3
 
NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOW (Unaudited)
(dollars in thousands)

   
Nine Months Ended September 30,
 
   
2006
  
2005
  
Cash Flows From Operating Activities
          
Net income
  
$
93,976
  
$
87,365
  
Adjustments to reconcile net income to net cash provided by (used in) operating activities
  (inclusive of amounts related to discontinued operations):
              
Depreciation and amortization
    
767
   
629
 
Accretion of discount and other amortization
    
(14,976
)
  
174
 
Equity in earnings of unconsolidated subsidiaries
    
(3,916
)
  
(4,628
)
Distributions of earnings from unconsolidated subsidiaries
    
3,916
   
4,049
 
Deferred rent
    
(1,274
)
  
(1,776
)
Gain on sale of investments
    
(10,430
)
  
(13,893
)
Unrealized gain on non-hedge derivatives and hedge ineffectiveness
    
(4,421
)
  
(6,559
)
Provision for credit losses
    
5,868
   
5,990
 
Provision for losses, loans held for sale
    
4,127
   
-
 
Purchase of loans held for sale - Note 5
    
(1,511,086
)
  
-
 
Sale of loans held for sale - Note 5
    
1,507,588
   
-
 
Non-cash directors' compensation
    
60
   
67
 
Change in:
              
Restricted cash
    
34,398
   
(117,679
)
Receivables and other assets
    
(524
)
  
(1,016
)
Due to affiliates
    
1,155
   
(2,583
)
Accrued expenses and other liabilities
    
8,757
   
61,993
 
Net cash provided by operating activities
   
113,985
   
12,133
 
Cash Flows From Investing Activities
              
Purchase of real estate securities
    
(1,116,676
)
  
(815,728
)
Proceeds from sale of real estate securities
    
306,618
   
50,082
 
Deposit on real estate securities (treated as a derivative)
    
-
   
(32,439
)
Purchase of and advances on loans
    
(1,267,511
)
  
(609,567
)
Proceeds from settlement of loans
    
-
   
1,024
 
Repayments of loan and security principal
    
417,277
   
540,749
 
Margin deposits on derivative instruments
    
(33,387
)
  
-
 
Return of margin deposits on derivative instruments
    
30,349
   
-
 
Margin deposits on total rate of return swaps (treated as derivative instruments)
    
(46,158
)
  
(39,099
)
Return of margin deposits on total rate of return swaps (treated as derivative instruments)
    
89,255
   
-
 
Proceeds from termination of derivative instruments
    
17,982
   
762
 
Proceeds from sale of derivative instrument into Securitization Trust - Note 5
    
5,623
   
-
 
Payments on settlement of derivative instruments
    
-
   
(1,112
)
Purchase and improvement of operating real estate
    
(1,314
)
  
(188
)
Proceeds from sale of operating real estate
    
-
   
52,333
 
Contributions to unconsolidated subsidiaries
    
(100
)
  
-
 
Distributions of capital from unconsolidated subsidiaries
    
1,504
   
9,122
 
Payment of deferred transaction costs
    
-
   
(38
)
Net cash used in investing activities
    
(1,596,538
)
  
(844,099
)
               
Continued on Page 5
              
 
4

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOW (Unaudited)
(dollars in thousands)

   
Nine Months Ended September 30,
   
2006
  
2005
  
Cash Flows From Financing Activities
              
Issuance of CBO bonds payable
    
-
   
442,034
 
Repayments of CBO bonds payable
    
(27,716
)
  
(7,364
)
Issuance of other bonds payable
    
631,988
   
246,547
 
Repayments of other bonds payable
    
(276,082
)
  
(98,786
)
Repayments of notes payable
    
(106,484
)
  
(327,080
)
Borrowings under repurchase agreements
    
3,300,477
   
675,500
 
Repayments of repurchase agreements
    
(2,150,900
)
  
(182,547
)
Draws under credit facility
    
393,900
   
42,000
 
Repayments of credit facility
    
(288,900
)
  
-
 
Issuance of junior subordinated notes payable
    
100,100
   
-
 
Issuance of common stock
    
-
   
97,680
 
Costs related to issuance of common stock
    
-
   
(1,129
)
Exercise of common stock options
    
1,440
   
9,497
 
Dividends paid
    
(90,564
)
  
(84,205
)
Payment of deferred financing costs
    
(9,664
)
  
(1,683
)
Net cash provided by financing activities
    
1,477,595
   
810,464
 
Net Increase (Decrease) in Cash and Cash Equivalents
    
(4,958
)
  
822,559
 
Cash and Cash Equivalents, Beginning of Period
    
21,275
   
37,911
 
Cash and Cash Equivalents, End of Period
  
$
16,317
  
$
860,470
  
Supplemental Disclosure of Cash Flow Information
              
Cash paid during the period for interest expense
  
$
248,594
  
$
153,122
  
Cash paid during the period for income taxes
  
$
244
  
$
443
  
Supplemental Schedule of Non-Cash Investing and Financing Activities
              
Common stock dividends declared but not paid
  
$
28,600
  
$
27,369
  
Preferred stock dividends declared but not paid
  
$
1,552
  
$
1,016
  
Deposits used in acquisition of real estate securities (treated as derivatives)
  
$
-
  
$
44,504
  
Foreclosure of loans
  
$
12,200
  
$
-
  
Acquisition and financing of loans subject to future repurchase
  
$
286,315
  
$
-
  
 
5

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
SEPTEMBER 30, 2006
(dollars in tables in thousands, except share data)

1. GENERAL

Newcastle Investment Corp. (and its subsidiaries, "Newcastle") is a Maryland corporation that was formed in 2002. Newcastle conducts its business through three primary segments: (i) real estate securities and real estate related loans, (ii) residential mortgage loans, and (iii) operating real estate.

Newcastle is organized and conducts its operations to qualify as a real estate investment trust (“REIT”) for U.S. federal income tax purposes. As such, Newcastle will generally not be subject to U.S. federal corporate income tax on that portion of its net income that is distributed to stockholders if it distributes at least 90% of its REIT taxable income to its stockholders by prescribed dates and complies with various other requirements.

Newcastle is party to a management agreement (the "Management Agreement") with Fortress Investment Group LLC (the "Manager"), an affiliate, under which the Manager advises Newcastle on various aspects of its business and manages its day-to-day operations, subject to the supervision of Newcastle's board of directors. For its services, the Manager receives an annual management fee and incentive compensation, both as defined in the Management Agreement.

Approximately 2.9 million shares of Newcastle’s common stock were held by an affiliate of the Manager and its principals at September 30, 2006. In addition, an affiliate of the Manager held options to purchase approximately 1.2 million shares of Newcastle’s common stock at September 30, 2006.
 
The accompanying consolidated financial statements and related notes of Newcastle have been prepared in accordance with accounting principles generally accepted in the United States for interim financial reporting and the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, certain information and footnote disclosures normally included in financial statements prepared under U.S. generally accepted accounting principles have been condensed or omitted. In the opinion of management, all adjustments considered necessary for a fair presentation of Newcastle's financial position, results of operations and cash flows have been included and are of a normal and recurring nature. The operating results presented for interim periods are not necessarily indicative of the results that may be expected for any other interim period or for the entire year. These financial statements should be read in conjunction with Newcastle's consolidated financial statements for the year ended December 31, 2005 and notes thereto included in Newcastle’s annual report on Form 10-K filed with the Securities and Exchange Commission. Capitalized terms used herein, and not otherwise defined, are defined in Newcastle’s consolidated financial statements for the year ended December 31, 2005.

6

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
SEPTEMBER 30, 2006
(dollars in tables in thousands, except share data)

2. INFORMATION REGARDING BUSINESS SEGMENTS

Newcastle conducts its business through three primary segments: real estate securities and real estate related loans, residential mortgage loans, and operating real estate.

The residential mortgage loans segment includes the securitized retained equity and bonds from the Securitization Trust described in Note 5 since they represent a first loss credit position in residential loans.

Summary financial data on Newcastle's segments is given below, together with a reconciliation to the same data for Newcastle as a whole:
   
Real Estate Securities
and Real Estate Related Loans
 
Residential Mortgage Loans
 
Operating Real Estate
 
Unallocated
 
Total
  
September 30, 2006 and the Nine Months then Ended
                      
Gross revenues
  
$
317,138
  
$
75,878
  
$
3,851
  
$
(196
)
$
396,671
  
Operating expenses
    
(2,026
)
  
(13,274
)
  
(3,006
)
  
(22,637
)
  
(40,943
)
Operating income (loss)
    
315,112
   
62,604
   
845
   
(22,833
)
  
355,728
 
Interest expense
    
(210,793
)
  
(46,696
)
  
-
   
(7,624
)
  
(265,113
)
Depreciation and amortization
    
-
   
-
   
(562
)
  
(205
)
  
(767
)
Equity in earnings of unconsolidated subsidiaries (A)
    
1,975
   
-
   
1,940
   
1
   
3,916
 
Income (loss) from continuing operations
    
106,294
   
15,908
   
2,223
   
(30,661
)
  
93,764
 
Income from discontinued operations
    
-
   
-
   
212
   
-
   
212
 
Net Income (loss)
  
$
106,294
  
$
15,908
  
$
2,435
  
$
(30,661
)
$
93,976
  
Revenue derived from non-U.S. sources:
                                
Canada
  
$
-
  
$
-
  
$
2,933
  
$
-
  
$
2,933
  
Total assets
  
$
6,820,667
  
$
1,238,856
  
$
46,255
  
$
20,303
  
$
8,126,081
  
Long-lived assets outside the U.S.:
                                
Canada
  
$
-
  
$
-
  
$
17,153
  
$
-
  
$
17,153
  
December 31, 2005
                                
Total assets
  
$
5,544,818
  
$
606,320
  
$
36,306
  
$
22,255
  
$
6,209,699
  
Long-lived assets outside the U.S.:
                                
Canada
  
$
-
  
$
-
  
$
16,673
  
$
-
  
$
16,673
  
Three Months Ended September 30, 2006
                                
Gross revenues
  
$
116,680
  
$
26,466
  
$
834
  
$
114
  
$
144,094
  
Operating expenses
    
(731
)
  
(3,608
)
  
(1,088
)
  
(7,605
)
  
(13,032
)
Operating income (loss)
    
115,949
   
22,858
   
(254
)
  
(7,491
)
  
131,062
 
Interest expense
    
(78,696
)
  
(17,777
)
  
-
   
(3,766
)
  
(100,239
)
Depreciation and amortization
    
-
   
-
   
(221
)
  
(69
)
  
(290
)
Equity in earnings of unconsolidated subsidiaries (A)
    
629
   
-
   
877
   
-
   
1,506
 
Income (loss) from continuing operations
    
37,882
   
5,081
   
402
   
(11,326
)
  
32,039
 
Income from discontinued operations
    
-
   
-
   
(12
)
  
-
   
(12
)
Net Income (loss)
  
$
37,882
  
$
5,081
  
$
390
  
$
(11,326
)
$
32,027
  
Revenue derived from non-U.S. sources:
                                
Canada
  
$
-
  
$
-
  
$
295
  
$
-
  
$
295
  
Nine Months Ended September 30, 2005
                                
Gross revenues
  
$
232,803
  
$
37,270
  
$
4,892
  
$
613
  
$
275,578
  
Operating expenses
    
(3,236
)
  
(7,472
)
  
(1,878
)
  
(18,294
)
  
(30,880
)
Operating income (loss)
    
229,567
   
29,798
   
3,014
   
(17,681
)
  
244,698
 
Interest expense
    
(140,240
)
  
(22,646
)
  
(249
)
  
(103
)
  
(163,238
)
Depreciation and amortization
    
-
   
-
   
(350
)
  
(103
)
  
(453
)
Equity in earnings of unconsolidated subsidiaries (A)
    
2,567
   
-
   
1,740
   
-
   
4,307
 
Income (loss) from continuing operations
    
91,894
   
7,152
   
4,155
   
(17,887
)
  
85,314
 
Income (loss) from discontinued operations
    
-
   
-
   
2,051
   
-
   
2,051
 
Net Income (Loss)
  
$
91,894
  
$
7,152
  
$
6,206
  
$
(17,887
)
$
87,365
  
Revenue derived from non-U.S. sources:
                                
Canada
  
$
-
  
$
-
  
$
10,269
  
$
-
  
$
10,269
  
 
continued on page 8

7
 
NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
SEPTEMBER 30, 2006
(dollars in tables in thousands, except share data)

   
Real Estate Securities
and Real Estate Related Loans
 
Residential Mortgage Loans
 
Operating Real Estate
 
Unallocated
 
Total
  
Three Months Ended September 30, 2005
                      
Gross revenues
  
$
85,742
  
$
11,932
  
$
1,889
  
$
287
  
$
99,850
  
Operating expenses
    
(2,460
)
  
(3,144
)
  
(618
)
  
(6,712
)
  
(12,934
)
Operating income (loss)
    
83,282
   
8,788
   
1,271
   
(6,425
)
  
86,916
 
Interest expense
    
(50,992
)
  
(7,588
)
  
2
   
(103
)
  
(58,681
)
Depreciation and amortization
    
-
   
-
   
(119
)
  
(63
)
  
(182
)
Equity in earnings of unconsolidated subsidiaries (A)
    
724
   
-
   
337
   
-
   
1,061
 
Income (loss) from continuing operations
    
33,014
   
1,200
   
1,491
   
(6,591
)
  
29,114
 
Income (loss) from discontinued operations
    
-
   
-
   
86
   
-
   
86
 
Net Income (Loss)
  
$
33,014
  
$
1,200
  
$
1,577
  
$
(6,591
)
$
29,200
  
Revenue derived from non-U.S. sources:
                                
Canada
  
$
-
  
$
-
  
$
1,917
  
$
-
  
$
1,917
  
                                 
(A) Net of income taxes on related taxable subsidiaries.
                                

Unconsolidated Subsidiaries

The following table summarizes the activity affecting the equity held by Newcastle in unconsolidated subsidiaries:

   
Operating Real Estate Subsidiary
 
Real Estate Loan Subsidiary
 
Trust Preferred Subsidiary
  
Balance at December 31, 2005
  
$
12,151
  
$
17,802
  
$
-
  
Contributions to unconsolidated subsidiaries
    
-
   
-
   
100
 
Distributions from unconsolidated subsidiaries
    
(1,734
)
  
(3,686
)
  
-
 
Equity in earnings of unconsolidated subsidiaries
    
1,940
   
1,975
   
1
 
Balance at September 30, 2006
  
$
12,357
  
$
16,091
  
$
101
  

Summarized financial information related to Newcastle’s unconsolidated subsidiaries was as follows:

 
Operating Real Estate Subsidiary (A) (B)
 

Real Estate Loan Subsidiary (A) (C)
  
   
September 30,
  
December 31,
  
September 30,
  
December 31,
  
   
2006
  
2005
  
2006
  
2005
  
Assets
  
$
78,177
  
$
77,758
  
$
32,365
  
$
35,806
  
Liabilities
    
(53,000
)
  
(53,000
)
  
-
   
-
 
Minority interest
    
(463
)
  
(455
)
  
(183
)
  
(202
)
Equity
  
$
24,714
  
$
24,303
  
$
32,182
  
$
35,604
  
Equity held by Newcastle
 
$
12,357
  
$
12,151
  
$
16,091
  
$
17,802
  
 
 
  
 Nine Months Ended September 30,
  
 Nine Months Ended September 30,
  
     
2006
 
 
2005
 
 
2006
 
 
2005
 
Revenues
  
$
6,493
  
$
8,287
  
$
3,996
  
$
5,195
  
Expenses
    
(2,541
)
  
(4,088
)
  
(25
)
  
(32
)
Minority interest
    
(72
)
  
(77
)
  
(22
)
  
(29
)
Net income
  
$
3,880
  
$
4,122
  
$
3,949
  
$
5,134
  
Newcastle's equity in net income
  
$
1,940
  
$
2,061
  
$
1,975
  
$
2,567
  

(A)  
The unconsolidated subsidiaries’ summary financial information is presented on a fair value basis, consistent with their internal basis of accounting.

(B)
Included in the operating real estate segment.

(C)
Included in the real estate securities and real estate related loans segment.
 
For information regarding the trust preferred subsidiary, which is a financing subsidiary with no material net income or cash flow, see Note 6.
 
8
 
NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
SEPTEMBER 30, 2006
(dollars in tables in thousands, except share data)

3. REAL ESTATE SECURITIES

The following is a summary of Newcastle’s real estate securities at September 30, 2006, all of which are classified as available for sale and are therefore marked to market through other comprehensive income.

           
Gross Unrealized
          
Weighted Average
  
Asset Type
  
Current Face Amount
 
Amortized Cost Basis
 
Gains
 
Losses
 
Carrying Value
 
Number of
Securities
 
S&P
Equivalent
Rating
 
Coupon
 
Yield
 
Maturity (Years)
  
CMBS-Conduit
  
$
1,478,808
  
$
1,427,860
  
$
37,634
  
$
(11,373
)
$
1,454,121
    
200
   
BBB-
    
5.95%
 
  
6.50%
 
  
7.22
 
CMBS- CDO
    
23,500
   
20,690
   
1,312
   
(38
)
  
21,964
   
2
   
BB
    
9.47%
 
  
11.86%
 
  
8.74
 
CMBS-Large Loan
    
618,014
   
615,712
   
8,212
   
(305
)
  
623,619
   
54
   
BBB-
    
6.94%
 
  
7.11%
 
  
2.32
 
CMBS- B-Note
    
245,567
   
233,080
   
6,035
   
(285
)
  
238,830
   
29
   
BB-
    
6.97%
 
  
7.72%
 
  
6.92
 
Unsecured REIT Debt
    
979,598
   
994,447
   
16,656
   
(11,612
)
  
999,491
   
100
   
BBB-
    
6.37%
 
  
6.00%
 
  
6.33
 
ABS-Manufactured Housing
    
91,839
   
86,526
   
1,644
   
(920
)
  
87,250
   
10
   
BB+
    
6.87%
 
  
7.74%
 
  
6.60
 
ABS-Home Equity
    
697,486
   
683,286
   
6,803
   
(902
)
  
689,187
   
121
   
BBB
    
7.09%
 
  
7.55%
 
  
2.86
 
ABS-Franchise
    
79,096
   
78,513
   
1,561
   
(1,016
)
  
79,058
   
23
   
BBB
    
7.26%
 
  
8.21%
 
  
4.93
 
Agency RMBS
    
1,091,022
   
1,097,009
   
2,511
   
(7,792
)
  
1,091,728
   
32
   
AAA
    
5.19%
 
  
5.18%
 
  
4.33
 
Subtotal/Average (A)
    
5,304,930
   
5,237,123
   
82,368
   
(34,243
)
  
5,285,248
   
571
   
BBB+
   
6.23%
 
  
6.46%
 
  
5.27
 
Retained securities (B)
    
37,555
   
34,119
   
233
   
(102
)
  
34,250
   
3
   
BBB-
   
7.71%
 
  
11.01%
 
  
3.48
 
Residual interest (B)
    
50,143
   
50,143
   
-
   
-
   
50,143
   
1
   
NR
   
0.00%
 
  
18.77%
 
  
2.78
 
Total/Average
  
$
5,392,628
  
$
5,321,385
  
$
82,601
  
$
(34,345
)
$
5,369,641
    
575
   
BBB+
   
6.19%
 
  
6.60%
 
  
5.23
 
 
(A)
The total current face amount of fixed rate securities was $4.2 billion, and of floating rate securities was $1.2 billion.
(B)
Represents the retained bonds and equity from the Securitization Trust as described in Note 5. These securities have been treated as part of the residential mortgage loan segment - see Note 2. The residual does not have a stated coupon and therefore its coupon has been treated as zero for purposes of the table.
 
Unrealized losses that are considered other than temporary are recognized currently in income. There were no such losses incurred during the nine months ended September 30, 2006. The unrealized losses on Newcastle’s securities are primarily the result of market factors, rather than credit impairment, and Newcastle believes their carrying values are fully recoverable over their expected holding period. None of the securities had principal in default as of September 30, 2006. Newcastle has performed credit analyses in relation to such securities which support its belief that the carrying values of such securities are fully recoverable over their expected holding period. Although management expects to hold these securities until their recovery, there is no assurance that such securities will not be sold or at what price they may be sold.

           
Gross Unrealized
          
Weighted Average
  
Securities in an Unrealized Loss Position
  
Current Face Amount
 
Amortized Cost Basis
 
Gains
 
Losses
 
Carrying Value
 
Number of
Securities
 
S&P
Equivalent
Rating
 
Coupon
 
Yield
 
Maturity (Years)
  
Less Than Twelve Months
  
$
603,483
  
$
589,011
  
$
-
  
$
(2,589
)
$
586,422
    
82
   
BBB-
    
7.80%
 
  
8.32%
 
  
4.37
 
Twelve or More Months
    
1,492,869
   
1,514,167
   
-
   
(31,756
)
  
1,482,411
   
178
   
A-
    
5.62%
 
  
5.30%
 
  
5.61
 
Total
  
$
2,096,352
  
$
2,103,178
  
$
-
  
$
(34,345
)
$
2,068,833
    
260
   
BBB+
   
6.25%
 
  
6.15%
 
  
5.25
  
 
As of September 30, 2006, Newcastle had $139.1 million of restricted cash held in CBO financing structures pending its investment in real estate securities and loans. As of November 7, 2006, Newcastle had approximately $100.0 million of restricted cash held in CBO financing structures pending its investment in real estate securities and loans.

9
 
NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
SEPTEMBER 30, 2006
(dollars in tables in thousands, except share data)

4. REAL ESTATE RELATED LOANS, RESIDENTIAL MORTGAGE LOANS AND SUBPRIME MORTGAGE LOANS

The following is a summary of real estate related loans, residential mortgage loans and subprime mortgage loans at September 30, 2006. The loans contain various terms, including fixed and floating rates, self-amortizing and interest only. They are generally subject to prepayment.

Loan Type
  

Current
Face Amount
 
Carrying
Value
 
Loan Count
 
Wtd. Avg. Yield
 
Weighted Average Maturity
(Years) (D)
 
Delinquent Carrying Amount (E)
  
B-Notes
  
$
95,859
  
$
95,124
    
5
   
7.25
%
  
4.31
 
$
-
  
Mezzanine Loans (A)
    
729,701
   
729,509
   
15
   
8.90
%
  
2.73
   
-
 
Bank Loans
    
209,691
   
209,813
   
5
   
7.80
%
  
4.25
   
-
 
Whole Loans (A)
    
74,993
   
75,238
   
2
   
11.94
%
  
1.90
   
-
 
ICH Loans (B)
    
130,287
   
128,734
   
74
   
8.64
%
  
1.24
   
6,040
 
Total Real Estate Related Loans
  
$
1,240,531
  
$
1,238,418
    
101
   
8.74
%
  
2.90
 
$
6,040
  
                                       
Residential Loans
  
$
195,159
  
$
199,952
    
566
   
6.42
%
  
2.79
 
$
3,104
  
Manufactured Housing Loans
    
673,956
   
663,836
   
19,148
   
8.46
%
  
6.05
   
12,928
 
Total Residential Mortgage Loans
 
$
869,115
  
$
863,788
    
19,714
   
7.99
%
  
5.32
 
$
16,032
  
Subprime Mortgage Loans Subject
                                      
to Future Repurchase (C)
  
$
299,176
  
$
287,546
                          

(A)
Two of these loans have contractual exit fees. Newcastle has begun accruing the exit fee on one loan and will begin to accrue for the other if and when management believes it is probable that such exit fee will be received.

(B)
In October 2003, pursuant to FIN No. 46, Newcastle consolidated an entity which holds a portfolio of commercial mortgage loans which has been securitized. This investment, which is referred to as the ICH CMO, was previously treated as a non-consolidated residual interest in such securitization. The primary effect of the consolidation is the requirement that Newcastle reflect the gross loan assets and gross bonds payable of this entity in its financial statements.

(C)
See Note 5.

(D)
The weighted average maturities for the residential loan portfolio and the manufactured housing loan portfolio were calculated based on constant prepayment rates (CPR) of approximately 30% and 9%, respectively.

(E)
This face amount of loans is 60 or more days delinquent.

The following is a reconciliation of loss allowance.

   
Real Estate Related Loans
 
Residential Mortgage Loans
  
Balance at December 31, 2005
  
$
4,226
  
$
3,207
  
Provision for credit losses
    
605
   
5,263
 
Realized losses
    
(2,931
)
  
(2,821
)
Balance at September 30, 2006
  
$
1,900
  
$
5,649
  
10

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
SEPTEMBER 30, 2006
(dollars in tables in thousands, except share data)
 
Newcastle has entered into total rate of return swaps with a major investment bank to finance certain loans whereby Newcastle receives the sum of all interest, fees and any positive change in value amounts (the total return cash flows) from a reference asset with a specified notional amount, and pays interest on such notional plus any negative change in value amounts from such asset. These agreements are recorded in Derivative Assets and treated as non-hedge derivatives for accounting purposes and are therefore marked to market through income. Net interest received is recorded to Interest Income and the mark to market is recorded to Other Income. If Newcastle owned the reference assets directly, they would not be marked to market through income. Under the agreements, Newcastle is required to post an initial margin deposit to an interest bearing account and additional margin may be payable in the event of a decline in value of the reference asset. Any margin on deposit (recorded in Restricted Cash), less any negative change in value amounts, will be returned to Newcastle upon termination of the contract.

As of September 30, 2006, Newcastle held an aggregate of $186.9 million notional amount of total rate of return swaps on 5 reference assets on which it had deposited $29.2 million of margin. These total rate of return swaps had an aggregate fair value of approximately $0.7 million, a weighted average receive interest rate of LIBOR + 2.54%, a weighted average pay interest rate of LIBOR + 0.53%, and a weighted average maturity of 1.3 years.

5. SECURITIZATION OF SUBPRIME MORTGAGE LOANS

In March 2006, Newcastle, through a consolidated subsidiary, acquired a portfolio of approximately 11,300 residential mortgage loans to subprime borrowers (the “Subprime Portfolio”) for $1.50 billion. The loans are being serviced by Centex Home Equity Company, LLC for a servicing fee equal to 0.50% per annum on the unpaid principal balance of the Subprime Portfolio. At March 31, 2006, these loans were considered “held for sale” and carried at the lower of cost or fair value. A write down of $4.1 million was recorded to Provision for Losses, Loans Held for Sale in March 2006 related to these loans, related to market factors. Furthermore, the acquisition of loans held for sale is considered an operating activity for statement of cash flow purposes. An offsetting cash inflow from the sale of such loans (as described below) was recorded as an operating cash flow in April 2006. This acquisition was initially funded with an approximately $1.47 billion repurchase agreement which bore interest at LIBOR + 0.50%. Newcastle entered into an interest rate swap in order to hedge its exposure to the risk of changes in market interest rates with respect to the financing of the Subprime Portfolio. This swap did not qualify as a hedge for accounting purposes and was therefore marked to market through income. An unrealized mark to market gain of $5.5 million was recorded to Other Income in connection with this swap in March 2006.

In April 2006, Newcastle, through Newcastle Mortgage Securities Trust 2006-1 (the “Securitization Trust”), closed on a securitization of the Subprime Portfolio. The Securitization Trust is not consolidated by Newcastle. Newcastle sold the Subprime Portfolio and the related interest rate swap to the Securitization Trust. The Securitization Trust issued $1.45 billion of debt (the “Notes”). Newcastle retained $37.6 million face amount of the low investment grade Notes and all of the equity issued by the Securitization Trust. The Notes have a stated maturity of March 25, 2036. Newcastle, as holder of the equity of the Securitization Trust, has the option to redeem the Notes once the aggregate principal balance of the Subprime Portfolio is equal to or less than 20% of such balance at the date of the transfer. The proceeds from the securitization were used to repay the repurchase agreement described above.
 
The transaction between Newcastle and the Securitization Trust qualified as a sale for accounting purposes, resulting in a net gain of approximately $40,000 being recorded in April 2006. However, 20% of the loans which are subject to future repurchase by Newcastle were not treated as being sold and are classified as “held for investment” subsequent to the completion of the securitization. Following the securitization, Newcastle held the following interests in the Subprime Portfolio, all valued at the date of securitization: (i) the $62.4 million equity of the Securitization Trust, recorded in Real Estate Securities, Available for Sale, (ii) the $33.7 million of retained bonds ($37.6 million face amount), recorded in Real Estate Securities, Available for Sale, which have been financed with a $28.0 million repurchase agreement, and (iii) subprime mortgage loans subject to future repurchase of $286.3 million and related financing in the amount of 100% of such loans.
 
11

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
SEPTEMBER 30, 2006
(dollars in tables in thousands, except share data)

The key assumptions utilized in measuring the $62.4 million fair value of the equity, or residual interest, in the Securitization Trust at the date of securitization were as follows:

Weighted average life (years) of residual interest
    
3.1
  
Expected credit losses
   
5.3
%
Weighted average constant prepayment rate
   
28.0
%
Discount rate
    
18.8
%

The following table presents information on the retained interests in the securitization of the Subprime Portfolio, which include the residual interest and the retained bonds described above, and the sensitivity of their fair value to immediate 10% and 20% adverse changes in the assumptions utilized in calculating such fair value, at September 30, 2006:
 
Total securitized loans (unpaid principal balance)
  
$
1,304,950
  
Loans subject to future repurchase (carrying value)
  
$
287,546
  
Retained interests (fair value)
  
$
84,393
  
         
Weighted average life (years) of residual interest
    
2.78
 
         
Expected credit losses
    
5.3
%
Effect on fair value of retained interests of 10% adverse change
  
$
(2,533
)
Effect on fair value of retained interests of 20% adverse change
  
$
(4,681
)
         
Weighted average constant prepayment rate
   
28.0
%
Effect on fair value of retained interests of 10% adverse change
  
$
(3,507
)
Effect on fair value of retained interests of 20% adverse change
  
$
(6,005
)
         
Discount rate
   
18.8
%
Effect on fair value of retained interests of 10% adverse change
  
$
(2,393
)
Effect on fair value of retained interests of 20% adverse change
  
$
(4,695
)
 
The sensitivity analysis is hypothetical and should be used with caution. In particular, the results are calculated by stressing a particular economic assumption independent of changes in any other assumption; in practice, changes in one factor may result in changes in another, which might counteract or amplify the sensitivities. Also, changes in the fair value based on a 10% or 20% variation in an assumption generally may not be extrapolated because the relationship of the change in the assumption to the change in fair value may not be linear.

The following table summarizes principal amounts outstanding and delinquencies of the securitized loans as of September 30, 2006 and net credit losses for the period then ended:
Loan unpaid principal balance (UPB)
  
$
1,304,950
  
Delinquencies of 60 or more days (UPB)
  
$
26,020
  
Net credit losses
  
$
-
  
 
Newcastle received net proceeds of $1.41 billion from the securitization transaction completed in April 2006 and net cash inflows of $20.3 million from the retained interests subsequent to the securitization.

The weighted average yield of the retained bonds was 11.01% and the weighted average funding cost of the related repurchase agreement was 5.83% as of September 30, 2006. The loans subject to future repurchase and the corresponding financing recognize interest income and expense based on the expected weighted average coupon of the loans subject to future repurchase at the call date of 9.24%.

12

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
SEPTEMBER 30, 2006
(dollars in tables in thousands, except share data)

6. RECENT ACTIVITIES

In January 2006, Newcastle closed on a three year term financing of its manufactured housing loan portfolio which provided for an initial financing amount of approximately $237.1 million. The financing bears interest at LIBOR + 1.25%. The lender received an upfront structuring fee equal to 0.75% of the initial financing amount. Newcastle entered into an interest rate swap in order to hedge its exposure to the risk of changes in market interest rates with respect to this debt. In connection with this term financing, Newcastle renewed its servicing agreement on these loans, with a portfolio company of a private equity fund advised by an affiliate of its manager, at the same terms.

In 2006, employees of the Manager exercised options to acquire 84,000 shares of Newcastle’s common stock for net proceeds of $1.4 million.

In March 2006, Newcastle foreclosed on $12.2 million of loans formerly in the ICH portfolio. The related real estate is considered held for investment.

In March 2006, Newcastle completed the placement of $100 million of trust preferred securities through its wholly owned subsidiary, Newcastle Trust I (the “Preferred Trust”). Newcastle owns all of the common stock of the Preferred Trust. The Preferred Trust used the proceeds to purchase $100.1 million of Newcastle’s junior subordinated notes. These notes represent all of the Preferred Trust’s assets. The terms of the junior subordinated notes are substantially the same as the terms of the trust preferred securities. The trust preferred securities require quarterly distributions at a fixed rate of 7.574% through April 2016 and at a floating rate of 3-month LIBOR plus 2.25% thereafter. The trust preferred securities mature in April 2036, but may be redeemed at par beginning in April 2011. Under the provisions of FIN 46R, Newcastle determined that the holders of the trust preferred securities were the primary beneficiaries of the Preferred Trust. As a result, Newcastle did not consolidate the Preferred Trust and has reflected the obligation to the Preferred Trust under the caption Junior Subordinated Notes Payable in its consolidated balance sheet and will account for its investment in the common stock of the Preferred Trust, which is reflected in Investments in Unconsolidated Subsidiaries in the consolidated balance sheet, under the equity method of accounting.

In May 2006, Newcastle entered into a new $200.0 million revolving credit facility, secured by substantially all of its unencumbered assets and its equity interests in its subsidiaries. Newcastle paid an upfront fee of 0.25% of the total commitment. The credit facility bears interest at one month LIBOR + 1.75% and matures in November 2007. The credit facility does not contain any unused fees. Newcastle simultaneously terminated its prior credit facility and recorded a loss of $0.7 million related to deferred financing costs, included in Gain on Sale of Investments, Net.

In June 2006, Newcastle entered into a warehouse agreement with a major investment bank to finance a portfolio of real estate related loans and securities prior to them being financed with a CBO. The financing bears interest at LIBOR + 0.50%. As of September 30, 2006, $695.8 million face amount of investments were financed with $572.5 million of debt, which has been classified as a Repurchase Agreement.

In July 2006, private equity funds managed by an affiliate of Newcastle’s manager completed the acquisition of a subprime home equity mortgage lender (“Subprime Servicer ” ). Newcastle’s portfolio of subprime loans, which was securitized in April, is being serviced by the Subprime Servicer for a servicing fee equal to 0.5% per annum on the unpaid principal balance of the portfolio.

In August 2006, Newcastle acquired a portfolio of approximately 13,300 manufactured housing loans for an aggregate purchase price of approximately $425.4 million. The loans, 96% of which were current or less than 30 days delinquent at the time of acquisition, are 82% fixed rate and 18% adjustable rate. Their weighted average gross coupon was 10.0% and the loans had a weighted average remaining term to maturity of 213 months at acquisition. The acquisition was funded with $391.3 million of five year notes bearing interest at one month LIBOR + 1.25%. The lender received an upfront fee of 0.5% on the initial financing amount and is entitled to expense reimbursement of up to 0.125% on the initial financing amount. Newcastle entered into interest rate swaps to hedge its exposure to the risk of changes in market interest rates with respect to this financing. The loans are serviced by a portfolio company of a private equity fund advised by an affiliate of our manager.

In November 2006, Newcastle sold 1.7 million shares of its common stock in a public offering at a price to the public of $29.42 per share, for net proceeds of approximately $49.5 million. For the purpose of compensating the Manager for its successful efforts in raising capital for Newcastle, in connection with this offering, Newcastle granted options to the Manager to purchase 170,000 shares of Newcastle’s common stock at the public offering price, which were valued at approximately $0.5 million.

13

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
SEPTEMBER 30, 2006
(dollars in tables in thousands, except share data)

7. DERIVATIVE INSTRUMENTS